Frankfurt — A landmark court ruling has opened a battle over what social welfare model the traditionally generous German state can offer, raising questions about the balance between human dignity and the need to balance the national books.

Last month, the federal constitutional court said that a sweeping reform established five years ago to reduce what was then seen as an overburdened welfare system was unconstitutional. The reason: It failed to ensure its 6.7 million recipients, especially children, "a dignified minimum income" and give less privileged citizens a "minimum level of participation in social, cultural, and political life."

The court gave Chancellor Angela Merkel's coalition until year's end to create a better model. And it unleashed heated debate over the future of Germany's social model at a time when, from France to Greece, social unrest in Europe is widespread.

"The court said that it's not enough to have food, clothes, and a roof – people also have to be able to participate in society, otherwise they become outcasts," says Christoph Butterwegge, a poverty expert at the University of Cologne. "For the constitutional court to define social participation as a right, that's unprecedented."

Controversial reforms spark lawsuit

The controversial Hartz-IV reform has often been called Germany's boldest postwar welfare reform. It focused on pushing the jobless to find work more quickly, limiting the period during which people could collect unemployment. It was designed amid soaring unemployment – and the financial pressures of absorbing Germany's ex-communist states and a European call to make the German economy more competitive.

Some said it was a courageous step. But others condemned it as an attack on a quintessentially German principle of solidarity and social harmony, by spurring the rise of low-paying, precarious jobs.

Two families ultimately took the government to court, saying that children's benefits were too low for them to survive financially. Hartz IV merged unemployment and welfare payments, with adults receiving a "basic security" lump sum of €359 (about $490) monthly and children getting 60 to 80 percent of that. Their case went all the way to the Supreme Court – and won.

Calculating the needs of children as a percentage of the needs of adults is "arbitrary and not transparent," said court president Hans-Jürgen Papier, asking the government to redesign the system so families can live "according to minimum humane standards."

Deciding what a child needs

"For the first time ever, the government has to grapple with what it is a child really needs," says Ulrich Schneider, president of Paritätische, an association of 10,000 nongovernmental charitable social groups in Berlin, describing the ruling as a "historic victory" for 2.2 million children on welfare. "The judges have put dignity – and not how to calculate children's benefits so that the government spends as little as possible – at the heart of the discussion. How the government achieves that – with all-day schools, free school lunches ... free entries to museums and the theater – is another question."

Although the court didn't call for children's welfare benefits to be raised, experts say that social spending will have to rise, increasing tensions within Chancellor Merkel's center-right coalition over how to fulfill its pledge to cut taxes as it struggles to cut government spending.

"The ruling is not about increasing transfer payments," says Helmut Rainer, at the Institute for Economic Research in Munich. "It's about, how do you have to rethink our current welfare system? How do we design a welfare system that provides incentives to work? How do you make sure that there are no disincentives?"

Critics say court overstepped

Guido Westerwelle, the foreign minister and leader of the pro-business Free Democrats, angered some by saying that the ruling was a wake-up call to cut short what he called "socialistic tendencies."

"We have to start thinking about those who work hard and also take care of their family, and not only those who are on welfare," he said. "Those who work have to earn more than those who don't work, and one should have the right to be saying ... anything else is socialism."

Some say the constitutional court has overstepped. "The role of the constitutional court is to protect human dignity, not to 'deliver' human dignity by giving people money or things," says Gerd Held, a social scientist at Berlin's Technical University.

Studies show that Germany is unparalleled in the close link between children's success and parents' social background – partly a result of short school days and limited child care. Instead of raising benefits, many experts say what's needed are all-day schools and giving lower-income children better access to after-school activities.

"Ours is a brand of social-market economy, it never was capitalism pure and simple," says Mr. Schneider of Paritätische. "Germany is not just an economic place. It is a place to live. The message of the ruling is that it should stay that way."

Germany's effort to rein in its expensive social welfare system has been ruled unconstitutional. How it now moves to balance its books as well as meet what it considers basic human needs could set a model for others.